Are your clients protected with an annuity?

Opinion

Think of an annuity as an "air bag" to protect your client's financial life. AP Photo/Karen Tam

What is your plan when the market goes down 35 percent or 40 percent? As advisors, we know how to answer this question, but do your clients? Most can’t; and this is not a question of “if;” it’s a question of “when.” It is our due diligence and duty to provide clients with the financial support to build a portfolio that can sustain an economic downturn. An annuity is one way to hedge against an uncontrollable financial crisis.

Yet with annuities comes skepticism, and one of the biggest sources of hesitancy stems from the fee structure.

An effective analogy to use when discussing the protection an annuity provides versus the cost is to have clients think of the guarantee and extra expenses as the “air bag” of their financial plan. Remind clients when they are in their car they’re going to put a seat belt on when they drive. Today, all cars have seat belts and almost all of them have air bags. However, years ago that wasn’t the case; you had to pay extra if you wanted to get an air bag. Most people prefer to pay a little bit of extra money to have that level of protection in case they got into an accident. Similarly, the price for effective annuity products are worth the risk mitigation they provide.

Benefits decrease, but still beneficial

Today, there have been changes in the annuity industry where a significant number of insurance carriers are decreasing the benefit being provided for the consumer. They’re decreasing the benefit because the cost to have it is just too expensive. This is due to interest rates being as low as they are at this time, and the cost to hedge that benefit is more expensive than it was before. Therefore, the guarantees the companies are making are less or fewer than they previously were. For example, one company’s lifetime income was 5 percent, which started at age 59-and-a-half, now it is starting at the age of 65. Companies have reduced and/or increased the cost of benefits because they can’t afford to provide it with the volatility in the marketplace.

Yet even with some companies decreasing benefits, annuities can still help older or retired workers have more financial stability.

Some companies are even offering lifetime benefits of four percent at age 59-and-a-half. If your client is under the age of 65 or 60, you should recommend that they take a smaller percentage of money out, because they have more years to live and a bigger chance to run out of income. On the other hand, if your client is older, they can be more aggressive and can take a greater percentage of money out because they don’t have as many years to live. The odds of running out of money are also not going to be as great.

As advisors, we need to be committed to doing the research into the investment’s suitability for our clients, and assess whether the extra cost is worth the benefit they’re receiving. This is an individual decision a client has to make. There’s no right or wrong answer. All we can do is provide clients with the crucial information to help guide them toward the right solution for them and their financial legacy.